Is a Capital Gains Tax Cut Coming?

Although Congress has been leery to propose a cut in the capital gains tax rate in its "Tax Cuts 2.0," the President recently floated a new way to index capital gains rates for inflation. This proposal isn't a tax cut, per se, but would have the effect of cutting capital gains taxes on certain asset sales. 

Under current law, short-term capital gains (or gains on sales made within a year after your purchase of stock or another asset) are taxed at your ordinary income tax rate. For many taxpayers, this rate will decrease for tax year 2018, which is a cut in and of itself.

Meanwhile, long-term capital gains, or gains on assets held for more than a year, are taxed at no more than 20 percent. For some high-income taxpayers who were formerly in the 39.6 percent bracket, this means deferring a sale until the one-year mark has passed could cut the tax rate on gains by nearly half. 

But assets held for the long term are often vulnerable to the effects of inflation. Many Baby Boomers and Gen-Xers grew up in houses their parents purchased for less than the cost of a reliable used vehicle—today, many of these homes are valued at six or even seven figures. 

The President's tax proposal takes the effect of inflation into account by taxing only capital gains that exceed the Consumer Price Index (CPI) inflation rate. Although this rate has fluctuated over the years, the practical impact of this change would mean that assets could increase in value by two to four percent (or more) per year without being subject to capital gains taxes upon sale. And assets held through periods of heavy inflation (like the double digits seen in the 1970s and early 1980s) could essentially become tax-free if sold when rates decrease.

Only Congress has the constitutional authority to levy taxes, so some economists believe that any changes made by the Treasury Secretary or the President wouldn't have the effect of law and could even be vulnerable to a challenge in court. But taxpayers considering capital gains sales before the end of the tax year—and the tax advisors who assist them—may want to monitor any potential changes coming down the pike to fully take advantage of any favorable tax treatment.